The Pension Protection Act of 2006 endorsed automatic enrollment of employees in defined contribution plans, allowing three default options: target-date funds; balanced funds; and managed accounts. Investment consultants say managers now are jockeying for position to be able to capitalize on the expected demand for target-date funds ahead of the final regulations expected to be issued by the Department of Labor.
Net assets for target-date funds have jumped to $128.7 billion this year from $11.6 billion in 2001, according to Morningstar Inc., Chicago. Experts predict that getting the OK as a default option will increase asset flows to these funds astronomically.
Defined contribution service providers typically charge plans between 60 and 90 basis points per age-based or risk-based asset allocation fund, according to an informal Pensions & Investments survey. There are two kinds of asset allocation funds: risk-based life¬style funds and age-based lifecycle funds, also called target-date.
P&I surveyed eight asset allocation fund providers about their asset allocation fund fees: JPMorgan Retirement Plan Services, Kansas City, Mo.; T. Rowe Price Retirement Plan Services, Baltimore; Fidelity Investments, Boston; Schwab Corporate Services, San Francisco; Putnam Investments, Boston; Wells Fargo Institutional Trust Services, San Francisco; John Hancock Financial Services, Boston; and Vanguard Group, Malvern, Pa.
William Schneider, managing director at DiMeo Schneider & Associates LLC, Chicago, said 401(k) plan executives are interested in target-date funds as a default for automatically enrolled participants, but they dont want to pay more for the funds because of higher equity allocations. Providers are paying very close attention to how these portfolios are (priced). They are making it manageable for plan sponsors, said Mr. Schneider.
Ruth Falck, a senior consultant with Watson Wyatt Investment Consulting, New York, said the attention to target-date funds has been heightened by the pending regulatory changes.
In response to the increased interest from clients, providers are considering changing or adding to their target-date fund offerings, Ms. Falck said. And there has been an increase in market activity with folks other than the record keepers and others with packaged products. There are also the investment-only players, she said.
Some providers are trying to differentiate themselves by offering a more aggressive equity exposure.
Most of the big players have increased their equity exposure in the last couple years to remain competitive and because of longevity studies. We have seen an increase in equity allocations from the beginning to the glide-path (the line marking the level of equities, which decreases as participants age) and into retirement. Plan sponsors want to know that their participants will have enough money when they retire. A higher (equity) allocation is attractive to many, said Ms. Falck.
Providers have taken notice.
Anne Lester, portfolio manager for JPMorgan Retirement, said, Interest in target-date funds has accelerated as more plans contemplate them as a default option. JPMorgans asset allocation funds have a relatively aggressive equity exposure of 80% to 95%, including direct real estate and domestic and international real estate investment trusts. JPMorgan has $3.5 billion in asset allocation funds.
Stacy Schaus, a former Hewitt Associates executive and now defined contribution practice leader for Pacific Investment Management Co., Newport Beach, Calif., said competition among target-date providers has stepped up.
Several firms have upped their equity exposure in the past year, but fees have remained flat, said Ms. Schaus. PIMCO doesnt offer asset allocation funds.
Heidi Walsh, vice president and director of strategic marketing and business development for T. Rowe, which has $12.3 billion in asset allocation funds, said her firm recently added a 2055 target-date fund with a 92.25% equity exposure. The fee for the 2055 fund geared toward workers planning to retire in 2055 or later is the same as fees for funds with lower equity exposures. The next largest allocation to equities is in the 2050 fund, at 90%.
Fidelity, the largest provider of target-date funds with $60 billion, recently tweaked the equity exposure in its target-date products, known as Freedom Funds, without raising fees.
Fidelity just made some changes. We felt it was important to increase our equity exposure, said spokesman Steve Austin. Fidelitys 2050 Freedom Fund was adjusted to hold about 90% in equities, up from 87%.
Schwab also has an aggressive equity allocation for its target-date funds, said spokesman Michael Cianfracca. The firm added a 2050 target-date fund with more than 90% in equities, he said. The equity allocation in its other asset allocation funds ranges from 49% to 91%. Schwab manages $2.04 billion in asset allocation funds.
Putnam, with $6.7 billion in asset allocation funds, fine-tuned its 2040 fund to invest 90% in equities, up from 88%. Putnam spokeswoman Sinead Martin said fees didnt change when the equity exposure rose.
Vanguard increased equity exposure in its 2035 target-date fund to 82.5% from 60%; the fees did not change. Vanguard has $10 billion in asset allocation funds.
In P&Is fee survey, Hancock charged the most, while Wells Fargo charged the least.
Laurie Lupton, Hancock spokeswoman, said fees are higher because the firm uses a multimanager approach with help from Deutsche Asset Management, New York. John Hancock has $21.7 billion in asset allocation funds.
Andrew Owen, director of investments at Wells Fargo, said, We think we are different in our portfolio construction. Theres passive exposure to underlying asset classes with no overlap. How many times and how many different ways could you own Microsoft? said Mr. Owen. Wells Fargo has $1.7 billion in asset allocation funds.